MORTGAGE HOLDERS could face an extra squeeze on their pockets next month following comments by European Central Bank (ECB) president Jean-Claude Trichet yesterday that it is considering raising interest rates at its next meeting.
The ECB left its key interest rate unchanged at 4 per cent yesterday, but some members of its governing council were in favour of announcing a rate hike yesterday. Mr Trichet's remarks have now cleared the way for a rate hike on July 3rd.
"We considered that - it is not excluded - that after having carefully examined the situation, we could decide to move our rates by a small amount in our next meeting in order to secure the solid anchoring of inflation expectations," he said.
"I don't say it's certain. I say it's possible," he added.
A quarter-point rate hike in July would add around €40 to a typical €250,000 mortgage being repaid over a term of 30 years, based on a tracker mortgage rate increasing from 5.1 per cent to 5.35 per cent.
Such an interest rate increase would wipe out the benefit of the extra €33 in mortgage interest relief granted to individual borrowers in last December's budget package. An interest rate increase would also lower the likelihood of a turnaround in the Republic's housing market, where house prices are tumbling at an annual rate of 9.2 per cent.
It had been hoped earlier in the year that the ECB would cut interest rates to stimulate sluggish rates of economic growth in the euro zone. This would have made mortgages more affordable for first-time buyers and sparked fresh demand for housing. But the ECB is now leaning toward a rate hike to curb inflation.
The EU's measure of inflation, known as the Harmonised Index of Consumer Prices (HICP), has risen from below 2 per cent last summer to 3.6 per cent, and the ECB expects it to average at 3.4 per cent in 2008, according to its latest forecasts. In March, the ECB estimated that inflation would average at just 2.9 per cent in 2008.
This signals that the risk of higher prices in the euro zone has increased, largely due to higher fuel and food prices. Oil prices are close to $125 per barrel, up from below $100 in February, while it is expected that there will be continued pressure on food prices due to global food shortages.
The ECB said it was in a state of "heightened alertness". Simon Barry, an economist at Ulster Bank, described this as a new form of language from the governing council. Although it is not the definite signal of an imminent rate hike implied by the words "strong vigilance", the phrase puts the market on notice that the ECB is prepared to back up its concerns about the inflation threat by raising rates, Mr Barry said.
Mr Trichet's hawkish remarks sent the share prices of stocks that are exposed to the mortgage market falling. On the Iseq index in Dublin, Irish Life Permanent fell 1.8 per cent, while Bank of Ireland dropped 1.3 per cent. One equities dealer said a rate hike would result in higher rates of bad debts among borrowers.
"It would put us all in the poor house next year," he said.
Central banks have spent the past nine months combating a global credit squeeze that still threatens to push the US economy into a recession. The Bank of England, which has reduced borrowing costs three times since December, yesterday kept its main rate at 5 per cent.
"This is the clearest signal we're going to get," said Dario Perkins, an economist at ABN Amro in London. "It looks like an interest rate hike is imminent. We're now looking for data to prevent a rate hike rather than for something that would allow them to raise rates."
- (Additional reporting, Bloomberg)
